AGENCY FINANCIAL REPORT

FISCAL YEAR 2015

MANAGEMENT’S

DISCUSSION AND

ANALYSIS

U.S. Department of Defense Agency Financial Report for FY 2015

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U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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MANAGEMENT’S DISCUSSION AND ANALYSIS

DEPARTMENT OF DEFENSE OVERVIEW

The Department of Defense is charged with the mission to ensure the security of the

United States and its citizens, or as phrased in the Constitution, to “provide for the common

defense.” The Department of Defense is committed to protecting the people of the

United States, defending our national interests, and providing America’s military with the

resources to accomplish its mission.

Today, the context in which we provide

this security is extremely challenging. Global

disorder has increased, while some of the

military advantages we have traditionally

enjoyed have started to erode, for example

through the rapid technological change

enjoyed by both state and non-state

adversaries. Violent extremist organizations

continue to deny vulnerable populations

their right to live in security and at peace,

and some states provide support to such

organizations or otherwise seek to challenge

international norms.

The Department maintains a force that is

second-to-none in the world and serves as a

bulwark to keep the nation secure in the

face of these challenges. This force exists

because of the men and women who choose

to serve in order to guarantee the security

and the freedoms of their fellow citizens. The

Department has an obligation to ensure they

are properly trained and equipped.

The Department sets its strategic direction through the Quadrennial Defense

Review (QDR), which was provided to Congress in March 2014. The QDR is a

legislatively-mandated report, issued every four years, that evaluates the threats and

challenges to our enduring national interests that the nation will likely confront over the

next 20 years. It is the key strategic document against which the Department’s priorities

and requests for resources are aligned. The QDR, consistent with the President’s National

Security Strategy, affirms the global leadership role of the United States and sets a course

that will help bring the military into balance over the next decade. The QDR outlines the

Department’s strategic priorities which include: rebalancing our focus and our forces to the

Asia-Pacific region to preserve peace and stability; maintaining a strong commitment to

security and stability in Europe and the Middle East; and sustaining a global approach to

countering violent extremists and terrorist threats, with an emphasis on the Middle East and

Africa. It highlights the importance of strengthening our alliances and partnerships globally.

Ash Carter

Secretary of Defense

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The Asia-Pacific is a defining region for our nation’s future. Half the world’s population

will live there by 2050. The progress enjoyed in this region since World War II has been

enabled by a peaceful security environment, which has been shaped by our enduring

presence and commitments. As our allies and partners continue to experience rapid social

and economic progress, we increasingly look to build their capacities.

The Rebalance to the Asia-Pacific remains a key component of the Department’s

strategy. While a peaceful rise of China is welcome, its actions in the South China Sea are

increasingly at odds with international norms. Faced with North Korea’s acts of cross-border

provocation, and its pursuit of long-range missiles and weapons of mass destruction, we are

committed to maintaining peace and stability on the Korean Peninsula. The Department will

maintain a robust footprint in Northeast Asia while enhancing our presence in Oceania and

Southeast Asia.

Given our deep and abiding interests in a Europe that is whole, free, and at peace,

President Putin’s continued aggression towards Ukraine and illegal annexation of Crimea is

an unwelcome strategic development. The Department is working with U.S. allies and

partners to promote regional security as part of a strong and balanced approach to Russia.

We are supporting Ukraine’s armed forces, and have committed millions of dollars of

non-lethal material and assistance.

The North Atlantic Treaty Organization (NATO) remains a cornerstone of European

security. The last year has been a significant one in the history of the alliance given

changing dynamics in European security. We are helping NATO turn its attention to

deterring an increasingly aggressive Russia as well as addressing insecurity on NATO’s

southern flank after a long period of focus on Afghanistan. In light of these significant

challenges, NATO leaders have agreed to powerful steps: doubling the number of military

exercises in the past year, setting up new command centers, and establishing the Very High

Readiness Joint Task Force. The United States has continued to participate in military

exercises throughout the Baltic Republics, Poland, and other front-line states. In doing so,

the United States and our allies have upheld our commitment to collective self-defense.

In Afghanistan, the U.S. strategy is to continue building the capacity of the Afghan

government as a reliable defense partner, and to protect U.S. national security interests in

the region. Afghanistan’s government of national unity is now fully responsible for the

security of its people and is moving ahead on a reform agenda. Approximately 9,800 U.S.

forces are focused on training, advising, and assisting the Afghan National Defense and

Security Forces (ANDSF) as part of the NATO-led Resolute Support Mission, as well as

conducting a counterterrorism mission. The Department will continue to finance the

sustainment and professionalization of the ANDSF of up to 352,000 personnel through 2017.

The Middle East is undergoing a period of great social and political turmoil. The

United States, with a coalition of allies and partners, is engaging in a long-term campaign to

degrade and deal a lasting defeat to the Islamic State of Iraq and the Levant (ISIL). To

achieve a lasting defeat of ISIL requires a “whole of government” effort, and of the nine

lines of efforts that underpin the campaign, the Department leads just two: Denying ISIL

Safe Haven and Building Partner Capacity. The Department’s personnel remain committed

to building the capacity of the Iraqi Security Forces to defend their homeland and deny ISIL

safe haven. This is challenging to achieve, but ISIL’s lasting defeat requires local forces to

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prevail on the ground. We also continue to provide critical support to our partners in the

region in an effort to bolster their defenses and enable their activities and operations aimed

at countering ISIL. We are doing all this in the context of a 60-plus nation coalition.

Although all our long-standing problems with Iran are far from resolved, the nuclear deal

agreed to with the international community represents a detailed arrangement to

permanently prohibit Iran from obtaining a nuclear weapon. While welcoming the positive

conclusion of diplomatic negotiations, we will continue to ensure Israel’s qualitative military

edge and work with our Gulf partners to make them more capable of defending themselves

against external aggression.

Against this backdrop of emerging challenges to U.S. national interests, the Department

is resetting and reconstituting the Joint Force after 13 years of war. The Department

continues to make key investments in the future force, with an emphasis on restoring

readiness, balancing the force, and achieving institutional reform. We are placing a greater

emphasis on research and development to help us maintain our competitive edge. We are

also prioritizing investments in key strategic capabilities, namely nuclear deterrence; space

systems; power projection; missile defense; cyber capabilities; and intelligence,

surveillance, and reconnaissance.

We will also draw from the brightest innovators within the commercial sector to find

technologies that will give troops an edge on the battlefield of the future, and the pace at

which we have established a presence in Silicon Valley exemplifies our determination to

infuse Defense with non-traditional talent and leading edge technology.

Finally we must show that we are taking effective action to make the best possible use

of every taxpayer dollar. That means we must strive to manage the Defense enterprise

efficiently and effectively, and to reform our business and acquisition practices. These

efforts are imperative to maintain readiness on all fronts for both the geopolitical challenges

we know about today, and those to come.

A soldier assigned to the California Army National Guard’s

Company B, 1st Battalion, 126th Aviation Regiment, observes

a bambi bucket dropping water onto the Rocky Fire near Clear

Lake, Calif. During the crew’s 2.5-hour firefighting mission, they

conducted 18 water drops.

Photo by Sgt. Jason Beal

The USS Chung-Hoon, USS Mobile Bay and USS Russell

follow the USS John C. Stennis during a show of force as they

transit in the Pacific Ocean. Sailors conduct composite training

and joint task force exercises as the final step in certifying to

deploy.

Photo by Mass Communication Specialist 3rd Class Andre T.

Richard

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RESOURCES

The FY 2015 Department of Defense budget balanced capacity, capability, and readiness

to protect the security interests of the United States within the funding constraints of the

Bipartisan Budget Agreement. The key themes in the FY 2015 budget were:

Seek a balanced force within available resources;

Prepare for prolonged readiness challenges;

Continue to focus on institutional reform;

Pursue compensation changes; and

Pursue investments in military capabilities.

The DoD FY 2015 enacted discretionary budget authority totaled $560.5 billion,

composed of $496.3 billion in the base budget, $64.2 billion in support of Overseas

Contingency Operations (OCO), and $0.1 billion for other emergency funding. Figure 1

displays the DoD FY 2015 budget authority by Title.

Despite decreasing resources, the Department must continue to maintain its decisive

technological edge. In FY 2015, the Department invested in emerging military capabilities,

such as new and expanded cyber capabilities, nuclear deterrence, space, precision strike,

and operationally responsive and persistent intelligence, surveillance, and reconnaissance

assets.

The Department also continued

investments in modernization efforts to

ensure that U.S. military forces are equipped

with the most technologically innovative

weapons available. For ground forces, this

includes the development of the Armored

Multi-Purpose Vehicle and the Joint Light

Tactical Vehicle. For maritime forces, the

FY 2015 request included funding for two

Virginia-class fast attack submarines and two

DDG-51 AEGIS destroyers, in addition to

funding to continue construction of the

U.S.S. John F. Kennedy and procurement of

three Littoral Combat Ships. For air

dominance, the budget included development

and production of three different variants of

the F-35 Joint Strike Fighter; the next

generation aerial refueling tanker, the

KC-46A; the Navy’s advanced E-2D Hawkeye

fleet defense aircraft; and the multi-mission

P-8A Poseidon patrol aircraft. To protect the

homeland and regional forces, the budget included continued development and fielding of

ballistic missile defense systems. The budget also put emphasis on innovation by providing

$12 billion for science and technology efforts.

Figure 1. DoD FY 2015 Budget

Authority

Totals may not agree due to rounding.

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We continue to pursue institutional reforms to reduce the cost of doing business. By

controlling support costs and generating efficiencies, we have prioritized spending on

combat power. These efficiency initiatives include reductions in Headquarters budgets

across the Department, beginning with the Office of the Secretary of Defense. We also have

implemented acquisition reform efforts, most notably through the Better Buying Power

initiatives that seek to achieve affordable programs by controlling costs, incentivizing

productivity and innovation in industry and government, eliminating unproductive

bureaucracy, promoting effective competition, and improving the professionalization of the

acquisition workforce.

The force structure reductions that began with the FY 2013 budget continue. In

accordance with the revisions to the January 2012 Defense Strategic Guidance, the FY 2015

budget reflected the choices made to achieve a modern, ready, and balanced force to meet

the full range of potential military requirements. The Army and Marine Corps, in particular,

made progress toward achieving their targeted active end states of 450,000 and 182,000,

respectively.

Reserve Components are an important element of the Total Force, and the Department

is focused on optimizing the active/reserve force mix and sustaining their readiness at

appropriate levels. The reserves are trained, ready, and cost-effective forces that can be

employed on a periodic operational basis while ensuring strategic surge capabilities for

large-scale contingencies or other unanticipated national crises.

We recognize the demands that continue to be placed on the all-volunteer force and

members’ families who give so much to defend the ideals and free institutions we often take

Two E-2D Hawkeye aircraft conduct a test flight near St. Augustine, Fla.

Photo courtesy of Northrop-Grumman

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for granted. Their dedication reminds us that preserving America’s liberties often comes

with a heavy cost. We keep faith by supporting a variety of Military Family Assistance

programs designed to improve military life, such as child care, non-medical counseling, and

Morale, Welfare and Recreation programs. The military healthcare system provides services

to 9.5 million beneficiaries, including military retirees and their families, dependent

survivors, and certain eligible Reserve Component members and their families. We seek to

control healthcare costs and reasonable health care benefit reform as part of a balanced

approach to cost containment, which is essential to fund the warfighting capabilities needed

to maintain the Joint Force and to send our personnel into combat with the best possible

training and equipment.

LOOKING FORWARD

Against the unexpected geopolitical developments of Russian aggression, ISIL activism,

North Korean provocation, and broader geopolitical turmoil across the Middle East region,

the strategic priorities identified in the Quadrennial Defense Review 2014 remain our

Department’s priorities: rebalancing to the Asia-Pacific region, maintaining a strong

commitment to security and stability in Europe and the Middle East, sustaining a global

counterterrorism campaign, strengthening key alliances and partnerships, and prioritizing

key modernization efforts.

We are at a pivotal moment in the post-Cold War world. Russia is modernizing both its

nuclear and its conventional military capabilities, and updating its warfighting doctrine.

While China’s rise is welcomed, its increasing assertiveness in the South China Sea is out of

step with international norms and increasing demand for our engagement in the Asia-Pacific

region. Meanwhile, the military’s technological edge, which we have relied upon for so long,

is eroding. This is a major strategic challenge facing not only the Department, but also,

America’s leadership in the world.

To maintain our warfighting dominance, the Department has launched the Defense

Innovation Initiative and Third Offset Strategy, an ambitious Department-wide effort

overseen by Deputy Secretary Work to identify and invest in innovative ways to sustain and

advance America’s military dominance for the 21st century.

As reflected in the QDR, the current strategic and budgetary environment compels us to

think creatively about how we can restore the readiness of the force, while we remain

globally engaged. The Department seeks to achieve full spectrum combat readiness by

FY 2023 for the Army and the Air Force, the Navy’s fleet response plan by 2020, and the

Marine Corps’ Force Posture Plan by 2020.

Finally, we will be looking to preserve our most enduring and competitive advantage –

our people. Under the Force of the Future Initiative, the Department intends to improve the

recruitment and retention of the brightest and most committed young men and women and

make Defense the most rewarding environment it can be, for those who choose to serve.

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ORGANIZATION

The Department of Defense maintains and uses armed forces to support and defend the

Constitution and ensure the security of the United States, its possessions, and areas vital to its

interest. This mission depends on our military and civilian personnel and equipment being in the

right place, at the right time, with the right capabilities, and in the right quantities to protect our

national interests. This has never been more important as America fights terrorists who plan

and carry out attacks outside the traditional boundaries of the battlefield.

The Department is one of the nation’s

largest employers, with civilians,

personnel on active duty, and the

Selected Reserve of National Guard and

Reserve forces. Our military service

members and civilians operate in every

time zone and in every climate. There

also are more than 2 million military

retirees and family members receiving

benefits.

The Department’s real property

infrastructure includes over 562,000

facilities (buildings and structures)

located on 4,800 sites worldwide covering

over 24.9 million acres. To protect the

security of the United States, the

Department operates 14,597 aircraft and

284 Battle Force ships.

The Secretary of Defense is the

principal assistant and advisor to the President in all matters relating to the Department,

and he exercises authority, direction, and control over the Department. The Department

currently is composed of the Office of the Secretary of Defense (OSD), the Joint Chiefs of

Staff, the Joint Staff, the Office of the Inspector General of the Department of Defense (DoD

IG), the Military Departments, the Defense Agencies, the DoD Field Activities, the

Combatant Commands, and such other offices, agencies, activities, organizations, and

commands established or designated by law, the President, or the Secretary of Defense.

A sailor operates a tractor to carry supplies from the well deck of the amphibious dock landing ship USS Ashland onto a landing craft utility at Apra Harbor, Guam. The supplies were bound for Saipan as part of the disaster relief effort following Typhoon Soudelor.

Photo by Mass Communication Specialist 3rd Class David A. Cox

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Figure 2. Department of Defense Organizational Structure

The Office of the Secretary of Defense

The function of OSD is to assist the Secretary of Defense in carrying out his duties and

responsibilities and other duties as prescribed by law. The OSD is comprised of the Deputy

Secretary of Defense, who also serves as the Chief Management Officer and Chief Operating

Officer; the Under Secretaries of Defense (USDs); the Deputy Chief Management Officer

(DCMO); the General Counsel of the Department of Defense; the Assistant Secretaries of

Defense (ASDs); the Assistants to the Secretary of Defense; the OSD Directors, and their

equivalents; the DoD IG; and the other staff offices within OSD established by law or by the

Secretary.

The OSD Principal Staff Assistants (PSAs) are responsible for the oversight and

formulation of defense strategy and policy (Figure 3).

Secretary

of the Air Force

The

Air

Staff

The

Joint Chiefs

Secretary

of the Navy

Office

of the

Secretary

of the

Navy

Secretary

of the Army

Office

of the

Secretary

of the

Army

Secretary of Defense

Department of Defense

Office of the Inspector General

of the Department of Defense

Department of

the Air Force

Chairman of the

Joint Chiefs of

Staff

The

Joint Staff

Department of

the Navy

Office

of the

Chief

of Naval

Operations

Head-

quarters

Marine

Corps

Department of

the Army

The

Army

Staff

The

Navy

The

Marine

Corps

The

Army

Defense

Agencies

DoD Field

Activities

Office

of the

Secretary

of the

Air Force

The

Air Force

Office of the

Secretary of

Defense

Joint Chiefs

of Staff

Deputy

Secretary,

Under

Secretaries, and

Assistant

Secretaries of

Defense; and

other specified

officials

Combatant

Commands

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Figure 3. Office of the Secretary of Defense Principal Staff Assistants

The Joint Chiefs of Staff and the Joint Staff

The Joint Chiefs of Staff, supported through the Chairman by the Joint Staff, constitute

the immediate military staff of the Secretary of Defense. The Joint Chiefs of Staff consist of

the Chairman, the Vice Chairman, the Chief of Staff of the Army, the Chief of Naval

Operations, the Chief of Staff of the Air Force, the Commandant of the Marine Corps, and

the Chief of the National Guard Bureau. The Joint Chiefs of Staff function as the military

advisors to the President, the National Security Council, the Homeland Security Council, and

the Secretary of Defense.

Office of the Inspector General

The Office of the Inspector General of the DoD is an independent unit within the

Department that conducts and supervises audits and investigations relating to the

Department’s programs and operations. The DoD IG serves as the principal advisor to the

Secretary of Defense on all audit and criminal investigative matters relating to the

prevention and detection of fraud, waste, and abuse in the programs and operations of the

Department.

DoD Chief

Information

Officer

* Although the IG DoD is statutorily part of OSD and is under the general supervision of the Secretary of Defense,

the Office of the IG DoD (OIG) functions as an independent and objective unit of the Department of Defense

USD

(Acquisition,

Technology, &

Logistics)

USD

(Policy)

USD

(Comptroller)/

Chief Financial

Officer

USD

(Personnel &

Readiness)

USD

(Intelligence)

Inspector

General,

DoD*

Deputy Chief

Management

Officer

Director, Cost

Assessment &

Program

Evaluation

Director,

Operational

Test &

Evaluation

General

Counsel,

DoD

ASD

(Legislative

Affairs)

ATSD

(Public

Affairs)

Director,

Net

Assessment

Deputy Secretary of Defense

Chief Management Officer/

Chief Operating Officer

Secretary of Defense

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Military Departments

The Military Departments consist of the Departments of the Army, the Navy (of which

the Marine Corps is a component), and the Air Force. Upon the declaration of war, if

Congress so directs in the declaration or when the President directs, the U.S. Coast Guard

becomes a special component of the Navy; otherwise, it is part of the

Department of Homeland Security. The three Military Departments organize, staff, train,

equip, and sustain America’s military forces and are composed of the four Military Services

(or five when including the U.S. Coast Guard, when directed). When the President

determines military action is required, these trained and ready forces are assigned or

allocated to a Combatant Command responsible for conducting military operations.

Military Departments include Active and Reserve Components. The Active Component is

composed of units under the authority of the Secretary of Defense manned by active duty

Military Service members. The Reserve Component includes the Reservists of each Military

Service and the National Guard, which has a unique dual mission with both federal and State

responsibilities (Figure 4). When commanded by the Governor of each state or territory, the

National Guard can be called into action during local, statewide, or other emergencies such as

storms, drought, or civil disturbances, and in some cases supporting federal purposes for

training or other duty (non-federalized service).

When ordered to active duty (called into federal service) for national emergencies, units of

the Guard are placed under operational control of the appropriate Combatant Commander. The

Guard and Reserve forces are recognized as indispensable and integral parts of the Nation’s

defense and fully part of the applicable Military Department.

Defense Agencies and DoD Field Activities

Defense Agencies and DoD Field Activities (Figure 5) are established as DoD

Components by law, the President, or the Secretary of Defense to provide, on a DoD-wide

basis, a supply or service activity common to more than one Military Department when it is

more effective, economical, or efficient to do so. While Defense Agencies and DoD Field

Activities fulfill similar functions, the former tend to be larger, normally provide a broader

scope of supplies and services, and can be designated as Combat Support Agencies to

directly support the Combatant Commands. Each of the 20 Defense Agencies and 8 DoD

Field Activities operate under the authority, direction, and control of the Secretary of

Defense through an OSD Principal Staff Assistant.

Figure 4. Reserve Components: Reserves and National Guard

Federal Missions

United States

Army Reserve

United States

Marine Corps

Reserve

United States

Navy Reserve

United States

Coast Guard

Reserve

United States

Air Force

Reserve

United States

Air National

Guard

United States

Army National

Guard

Federal and State Missions

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Combatant Commands

The Commanders of the Combatant Commands (Figure 6) are responsible for

accomplishing the military missions assigned to them. Combatant Commanders exercise

command authority over assigned and/or allocated forces, as directed by the Secretary of

Figure 5. Defense Agencies and DoD Field Activities

Joint Improvised-Threat Defeat

Agency *

* Nine Defense Agencies are designated as

Combat Support Agencies with joint oversight by

the Chairman of the Joint Chiefs of Staff

Secretary of Defense

USD(I)USD(P&R)USD(C)USD(P)USD(AT&L)

GC DoD ATSD(PA) DoD CIO DCMO

Defense AdvancedResearch Projects

Agency

Defense ContractManagement

Agency *

Defense LogisticsAgency *

Missile DefenseAgency

Defense TechnicalInformation

Center

DoD Test Resource

ManagementCenter

Defense Information

SystemsAgency *

Defense SecurityCooperation

Agency

Defense Technology

SecurityAdministration

DefenseContract Audit

Agency

Defense Finance& Accounting

Service

DefenseCommissary

Agency

Defense HealthAgency *

DoD EducationActivity

DefenseIntelligenceAgency *

DoD HumanResources

Activity

NationalGeospatial-IntelligenceAgency *

NationalReconnaissance

Office

National Security Agency/

Central Security Service *

Pentagon ForceProtection

Agency

WashingtonHeadquarters

Services

DefenseMediaActivity

Defense LegalServicesAgency

Defense POW/MIAAccounting

Agency

Defense SecurityService

Defense ThreatReductionAgency *

Office of Economic

Adjustment

Key

DoD Field Activity

Defense Agency

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Defense. The operational chain of command runs from the President to the Secretary of

Defense to the Commanders of the Combatant Commands. The Chairman of the Joint Chiefs

of Staff functions within the chain of command by transmitting the orders of the President

or the Secretary of Defense to the Commanders of the Combatant Commands.

The U.S. Strategic Command (USSTRATCOM), U.S. Transportation Command

(USTRANSCOM), and U.S. Special Operations Command (USSOCOM) are functional

Combatant Commands, each with unique functions as directed by the President in the

Unified Command Plan. Among Combatant Commands, the USSOCOM has additional

responsibilities and authorities similar to a number of authorities exercised by the Military

Departments and Defense Agencies, including programming, budgeting, acquisition,

training, organizing, equipping, and providing Special Operations Forces, and developing

Special Operations Forces strategy, doctrine, tactics, and procedures. The USSOCOM is

reliant upon the Military Services for common support and base operating support.

In addition to supplying assigned and allocated forces and capabilities to the Combatant

Commands, the Military Departments provide administrative and logistics support by

managing the operational costs and execution of these commands. The USSOCOM is the

only Combatant Command directly receiving Congressional appropriations.

Figure 6. Combatant Commands

B10-04

Six commanders have specific mission objectives for their geographical areas of responsibility:

Three commanders

have worldwide mission

responsibilities, each

focused on a particular

function:United States

Strategic CommandUnited States

Transportation Command

United StatesSpecial Operations

Command

United StatesNorthern Command

United StatesPacific Command

United StatesEuropean Command

United StatesSouthern Command

United StatesAfrica Command

United StatesCentral Command

USNORTHCOM

USEUCOM

USPACOM

USSOUTHCOMUSCENTCOM

USAFRICOM

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PERFORMANCE OVERVIEW

The Deputy Secretary of Defense, as the Department’s Chief Management Officer and

Chief Operating Officer, is responsible for performance improvement in the Defense

Department. Each year, in accordance with public law and OMB regulations1, the

Department develops and tracks performance measures to meet DoD Strategic priorities.

The Government Performance and Results Modernization Act (GPRAMA) of 2010 requires

the development of the Agency Strategic Plan (ASP). The Department’s 2015-2018 ASP

strategic goals are:

Defeat our Adversaries, Deter War, and Defend the Nation;

Sustain a Ready Force to Meet Mission Needs;

Strengthen and Enhance the Health and Effectiveness of the Total Workforce;

Achieve Dominant Capabilities through Innovation and Technical Excellence; and

Reform and Reshape the Defense Institution.

The Department Agency Strategic Plan presents the strategic goals and objectives the

Department aims to accomplish over Fiscal Years (FY) 2015-2018, describing near and

long-term defense performance and priority goals, and the federal cross-agency priority

(CAP) goals the Department contributes toward achieving. The Department will continue to

mature the ASP to better inform internal and external stakeholders, enhance substance for

improved decision-making, planning, alignment of actions, and resources to realize goals

and deal with challenges or risks –

while also addressing requirements

of GPRAMA and the National

Defense Authorization Act of 2008.

The Department’s ASP builds from

the strategic authorities and

direction to align national defense

efforts and resources ultimately

enabling warfighter mission

execution.

This report provides an

executive-level overview of DoD’s

performance through the third

quarter, ending June 30, 2015, with

fiscal year-end results published in

the Annual Performance Report in

the Department’s budget

submission in February 2016.

1 Government Performance and Results Act of 1993 (GPRA) (Public Law 103-62); Government Performance and Results Modernization Act of 2010 (Public Law 111-352); OMB Circular No. A-11, Preparation, Submission, and Execution of the Budget

Marines with the 31st Marine Expeditionary Unit depart the amphibious assault ship USS Peleliu (LHA 5) to participate in the ground phase of Amphibious Landing Exercise (PHIBLEX) 15 in Subic Bay, Philippines. PHIBLEX is a bilateral training exercise designed to improve the interoperability, readiness, and professional relationships between the U.S. Marine Corps and partner nations.

Photo by Mass Communication Specialist 3rd Class Dustin Knight

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SUMMARY OF PERFORMANCE RESULTS

At the end of the third quarter, 67 percent of the Department’s quarterly performance

measures were on track to meet the annual goals, while 33 percent did not meet third

quarter targets and are considered “at risk” of not achieving their annual targets.

Successes

The Department has been successful in meeting most of the priority measures for third

quarter, FY 2015, including those related to acquisition reform and providing high quality

care to wounded, ill, or injured service members. The Department has maintained its

commitment to taking care of its people and has made considerable improvements in

processing wounded warriors in a timely and effective manner.

Processing Wounded Warriors through the Integrated Disability Evaluation

System (IDES)

Our Nation continues to be

committed to the care and support of

those who keep our country free and

strong. Providing top-quality physical

and psychological care to wounded

warriors and assisting with the

transition to veteran status is a

Department priority. In FY 2015, the

Department continued its work with the

U.S. Department of Veterans Affairs

(VA) to accelerate the transition of

Wounded, Ill, and Injured Service

members into Veteran status by

reducing the disability evaluation

processing time.

IDES is used to determine if Service

members coping with wounds, injuries, or illnesses that may prevent them from performing

their duties are able to continue serving. IDES is a joint process established by the VA and the

Department that includes a single set of medical examinations and disability ratings. The goal is

to reduce the gap between separation from active duty and receipt of VA benefits and

compensation.

In the area of information technology enhancements, the Department is acquiring a DoD

Disability Evaluation System Information Technology (IT) solution, with a targeted Initial

Operating Capability in FY 2017. This will leverage existing IT capabilities where appropriate,

and include new capabilities to support end-to-end case management, tracking, and reporting,

and to enhance electronic IDES case file transferability within the Military Departments and

interoperability between the Department and VA.

Despite numerous cross-agency challenges, the Department exceeded its IDES

performance measure target in support of the Agency Priority Goals (APG) for the second

U.S. and British athletes compete in the 100-meter sprint at the 2015 Department of Defense Warrior Games on Marine Corps Base Quantico, Va., June 23, 2015.

Photo by Lance Cpl. Terry W. Miller Jr.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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(85 percent), third (87 percent) and fourth (87 percent) quarters of FY 2015. The

performance measure combines the outcomes of timeliness for completing Department core

IDES phases, Service member satisfaction with the process, the accuracy and consistency of

Military Department disability determinations, and compliance with administrative

processing requirements.

Reform the DoD Acquisition Process

In the Better Buying Power (BBP) initiative announced in September 2010, and

re-emphasized in the November 2012 memorandum introducing BBP 2.0, the Under Secretary

of Defense for Acquisition, Technology and Logistics (USD(AT&L)) directed the acquisition

professionals in the Department to deliver better value to the taxpayer and warfighter by

improving the way the Department does business. Next to supporting the Armed Forces at war,

this was the President’s and Secretary of Defense’s highest priority for the Department’s

acquisition professionals. USD(AT&L) pointed out its continuing responsibility to procure the

critical goods and services U.S. Armed Forces need in the years ahead without having

ever-increasing budgets to pay for them. DoD Components have incorporated Better Buying

Power concepts into their policies and practices for the acquisition of weapon systems, goods

and services, instilling a cost-conscious culture and improving the workforce’s ability to adapt

and apply the best approach for each situation. These efforts are informed by ongoing analysis

of numerous aspects of defense acquisition in the annual reports on the Performance of the

Defense Acquisition System. These reports add insight and gauge progress that result in

improvements in APG measures, showing positive trends and areas for further work. On

April 9, 2015, USD(AT&L) announced the next step in the BBP continuum, BBP 3.0, Achieving

Dominant Capabilities through Technical Excellence and Innovation. BBP 3.0 places an

additional emphasis on innovation, technical excellence, and quality of products.

Numerous barriers have impeded the Department’s efforts to increase competition rates

including fewer new programs; budget constraints limiting funding for the purchase of

technical data packages; extended Continuing Resolutions necessitating sole-source

“bridge” contracts to avoid program disruptions; more programs past the stage where

competition is economically viable; and lack of technical data packages and data rights on

prior mature and aging aircraft programs.

DoD Components have incorporated BBP concepts into their acquisition programs,

resulting in sound programs where requirements and resources are matched at program

initiation.

Areas for Improvement

The Department did not meet 33 percent of its third quarter targets for the APG measures,

indicating these are at risk for not achieving annual performance goals. There are improvement

opportunities related to achieving audit-ready financial statements, improving energy

performance, and competitive contracting.

Achieving Audit-Ready Financial Statements

The National Defense Authorization Act of 2010 mandated that the Department have

audit-ready financial statements by 2017; accordingly, the Department made this requirement

a priority goal. Achieving audit readiness means that the Department has strengthened internal

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

16

controls and improved financial practices, processes, and systems so there is reasonable

confidence the information can withstand review by an independent auditor.

Fiscal Year 2015 was a pivotal year for the Department. Each Military Department began an

Independent Public Accountant (IPA) audit of its General Fund Schedule of Budgetary Activity

(SBA) FY 2015 appropriations. Additionally, most of the material other Defense organizations

(ODO) went under SBA examination or completed mock audits of their current year budgetary

activities. Going under IPA audit or examination is an essential part of the DoD strategy to

achieve full audit readiness and is consistent with the feedback received from the Government

Accountability Office, the DoD Office of the Inspector General, and some members of Congress.

While the Department is in the process of prioritizing the corrective action plans to address the

audit findings, it will continue to focus on preparing the remaining financial statements for audit.

The Department is currently focused on four principal financial statements: Statement of

Budgetary Resources (SBR), Balance Sheet, Statement of Net Cost, and Statement of Changes

in Net Position. To support auditability of the Balance Sheet, the Department established audit

readiness of Mission Critical Assets as a priority. The Mission Critical Assets audit readiness

strategy focuses on financial statement assertions for Existence and Completeness, Valuation,

Presentation and Disclosure, and Rights and Obligations. Resolving existence and completeness

issues is an essential first step to valuing assets and reporting them on the Balance Sheet. The

Department did not meet the Mission Critical Assets target goal due to outstanding policy issues

in establishing an appropriate valuation baseline. The Department is working with the Federal

Accounting Standards Advisory Board to establish a valuation baseline. Fund Balance with

Treasury (FBWT), a material line item on the Balance Sheet, is another indicator as to whether

the Department’s full financial statements will be audit ready by FY 2017. The Department did

not meet the FBWT target due to audit findings related to one Military Service. The SBR is also

an indicator of whether the Department’s full financial statements will be audit ready by

FY 2017. The Department did not meet

the SBR target due to audit findings

related to supporting balances for open

obligations from prior year funds.

For the purposes of the above

indicators, audit readiness is defined as

an individual reporting entity’s

management audit readiness assertions

for FBWT, Existence and Completeness

of Mission Critical Assets, Valuation of

Mission Critical Assets, and SBR to

enable more meaningful and achievable

goals when establishing FY 2016 goals.

The Department is committed to

resolving the audit findings and

achieving and sustaining audit-ready

financial statements.

U.S. sailors and Marines man the rails as they pull into their first port

call of their summer deployment on the amphibious dock landing ship

USS Ashland in Bunbury, Australia, June 29, 2015. The Ashland is

patrolling in the U.S. 7th Fleet area of operations.

Photo by U.S. Navy Petty Officer 2nd Class David Co

.

Photo by Lance Cpl. Terry W. Miller Jr.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Energy

Improving facility energy performance at DoD installations will lower energy costs,

improve energy security, improve mission effectiveness, and reduce reliance on fossil fuels.

Efficiencies will be achieved by reducing the demand for traditional energy. Legislation

mandates a 3 percent annual reduction in facilities energy intensity as measured in British

Thermal Units per gross square foot. The Department has pursued a facility energy

investment strategy designed to

reduce the energy costs and improve

the energy security of our bases.

Despite falling short of the FY 2014

intensity reduction goal of 27 percent,

the Department reduced its energy

intensity by 17.6 percent from the

FY 2003 baseline and improved by

0.4 percent from FY 2013. While the

Department continues to invest in

cost-effective energy efficiency and

conservation measures to improve

goal progress, there will be challenges

in future reductions. Facility energy

metrics are reported on an annual

basis.

Contract Obligations That Are

Competitively Awarded

The Better Buying Power initiatives

advanced by the Under Secretary of Defense for Acquisition, Technology and Logistics are

aimed at achieving greater efficiencies through affordability and cost control. A principal

element in achieving these objectives is the promotion of effective competition. For the third

quarter FY 2015, the Department achieved a competition rate of 52.4 percent against the

third quarter target of 56 percent. Based on current projections, the Department does not

anticipate achieving the FY 2015 goal of 59 percent.

However, USD(AT&L) continues to emphasize the importance of maximizing

opportunities for competitive contracting on a quarterly basis at the Business Senior

Integration Group meetings. In this forum, the Service Acquisition Executives have shared

best practices by describing the approach employed by program executive officers to

identify targets of opportunity.

Looking ahead to next fiscal year, USD(AT&L) will emphasize a transition from targeted

goals based primarily on the percentage increase over prior year actuals, to a forecast

model that projects competition opportunities a year in advance to account for anomalies,

such as the purchase of a nuclear powered aircraft carrier. The Director of Defense

Procurement and Acquisition Policy, with Component input, will examine differing

circumstances and projected competitive opportunities to enable more meaningful and

achievable goals when establishing FY 2016 goals.

A Navy F/A-18E Super Hornet launches at sunset from the flight deck of the aircraft carrier USS Ronald Reagan in the Pacific Ocean off the coast of Southern California, July 10, 2015. The aircraft is assigned to Strike Fighter Squadron 137.

Photo by Petty Officer 2nd Class Chase C. Lacombe

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Summary

The Department is a performance-based organization. As such, the Department is

committed to managing towards specific, measurable goals derived from a defined mission,

using performance data to continually improve operations. The Department has maintained

its commitment to veterans transitioning into the civilian workforce, and commitment to

pursuing improvement opportunities related to acquisition reform and financial audit

readiness.

A soldier assigned to the 982nd Combat Camera Company, rappels down a cliff during Fleet Combat Camera Pacific's Quick Shot 2015 combined joint field training exercise in the Angeles National Forest near Azusa, Calif., Aug. 6, 2015. Quick Shot is a semiannual field exercise designed to train combat camera personnel to operate in a combat environment.

Photo by Mass Communication Specialist 2nd Class Anthony R. Martinez

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

20

FINANCIAL OVERVIEW

The previous sections of this report provide an overview of the Department’s operations

in FY 2015 and a high-level overview of how the Department met its performance goals and

objectives as of the third quarter of FY 2015. The FY 2015 final results for all Department

performance measures will be reported in the Department’s Annual Performance Report,

which will be available in February 2016.

As noted, the Department’s issues in producing auditable financial statements persist,

and management cannot provide unqualified assurance as to the effectiveness of our

internal controls over financial reporting, operations, and financial management systems.

Part of the challenge in successfully passing a financial statement audit lies with the

Department’s unique size and mission. For example, Figure 7 shows the magnitude of

financial activities processed only by the Defense Finance and Accounting Service (DFAS) in

FY 2015, and does not include transactions processed by other DoD entities, such as the

U.S. Army Corps of Engineers or the Defense

Health Agency.

Despite our complexities, we continue to

make strides in our efforts towards producing

auditable financial statements. Notably, the

Army, Navy, Air Force, and multiple Defense

Agencies underwent audit in FY 2015 of their

Schedules of Budgetary Activity (SBA), a

precursor to audits of their Statements of

Budgetary Resources (SBR). Also, several DoD

Components have continued to maintain audit

opinions on their full financial statements.

The Department’s Financial Improvement

and Audit Readiness (FIAR) Initiative guides

the Department’s efforts to improve our

financial management and ability to

demonstrate reliable and well-controlled business processes and provide supporting

documentation to auditors in a timely and consistent manner. Through the Managers’

Internal Controls Program, we continue to identify and fix gaps in business practices,

policies, and procedures that could leave room for errors or weaknesses. Additionally, we

continue to replace, update, and consolidate outdated and redundant information

technology systems. New data standards are in place to improve data quality and systems

interoperability. These initiatives are detailed further in this report.

With continued improvements in systems and business processes, the Department can

more readily achieve and sustain the reliability of reported financial information to meet the

timeliness, reliability, and accuracy standards of an independent auditor. Although the

Department has yet to achieve full auditability, we are confident that we know how taxpayer

funds are spent, that employees and vendors are paid timely and appropriately, and that

our overall financial operations are managed soundly in our efforts to protect and defend

the nation.

Figure 7. DFAS Statistics FY 2015

Description FY 2015

Number of Pay Transactions 135.7 million

Number of Commercial Invoices Paid

11.8 million

Number of Travel Payments 5.7 million

Number of General Ledger Accounts managed

190.6 million

Amount Disbursed $477 billion

Amount of Military Retirement and Health Benefits Funds Managed

$834 billion

Foreign Military Sales Cases Reimbursed by Foreign Governments

$455 billion

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

21

FINANCIAL HIGHLIGHTS AND ANALYSIS

The principal financial statements have been prepared to report the financial position

and results of operations of the Department, pursuant to the requirements of

31 U.S.C. 3515 (b). The statements have been prepared from the accounting records of the

Department in accordance with OMB Circular No. A-136, Financial Reporting Requirements,

and to the extent possible, U.S. Generally Accepted Accounting Principles (USGAAP) for

Federal entities, and the DoD Financial Management Regulation. The statements, in addition

to supporting financial reports, are used to monitor and control budgetary resources. The

statements should be read with the realization that they are for a component of the

U.S. Government, a sovereign entity.

The Defense Finance and Accounting Service (DFAS) prepared the consolidated financial

statements and explanatory notes, located in the Financial Information section of this

report. The principal financial statements include the:

Statement of Budgetary Resources;

Balance Sheet;

Statement of Net Cost; and

Statement of Changes in Net Position.

Statement of Budgetary

Resources

One of the most critical financial

improvement and audit readiness

priorities in the Department involves

the processes, controls, and systems

that support information most often

used to manage the Department,

namely, budgetary resources. The

Statement of Budgetary Resources

(SBR) presents the Department’s total

budgetary resources, their status at

the end of the year, and the

relationship between the budgetary

resources and the outlays made

against them. In accordance with

Federal statutes and implementing

regulations, obligations may be incurred and payments made only to the extent that

budgetary resources are available to cover such items.

As discussed in the DoD Overview Section of this report and as depicted in Figure 8, the

Department’s FY 2015 budget authority total is $560.5 billion. The change in FY 2015

budget authority from FY 2014 is mostly attributable to sequestration actions required by

the Budget Control Act of 2011 and the Bipartisan Budget Agreement of 2013.

Figure 8. Trend in DoD Budget Authority

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

22

As shown in Figure 9, the

Department reported $1.1 trillion in

FY 2015 total budgetary resources. The

total appropriations amount of

$720.5 billion, reported on the

Statement of Budgetary Resources,

consists of DoD budget authority and

appropriations provided by the U.S.

Treasury for DoD military retirement and

health benefits. The Department also

receives appropriations to finance civil

work projects managed by the

U.S. Army Corps of Engineers (USACE).

Current year Trust Fund receipts,

including the Military Retirement Fund

and the Medicare Eligible Retiree Health

Care Fund, also are included in the SBR

“Total Appropriations” line. Trust fund

receipts, labeled “Temporarily not

available,” represent budget authority

the Department will execute in future years to pay the current unfunded liabilities carried in

these large funds.

Additional budgetary resources include $176.0 billion of unobligated balances stemming

from prior year budget authority, $102.4 billion in spending authority from offsetting

collections, and $68.3 billion of contract authority.

Of the $1.1 trillion in total budgetary resources, $917.8 billion was obligated and

$887.8 billion of obligations were disbursed. The remaining unobligated budgetary resources

balance relates to appropriations available to cover multi-year investment projects. These

projects require additional time for delivery of goods and services. Expired appropriations

remain available for valid upward adjustments to prior year obligations but are not available

for new obligations.

Figure 9. Composition of DoD Total

Budgetary Resources

FY 2015

($ in billions)

DoD Budget Authority $ 560.5

U.S. Treasury contribution for Military

Retirement and Health Benefits 86.4

Civil Works Projects executed by the

USACE 4.1

Trust Fund Receipts 123.7

Trust Fund Resources Temporarily not

Available (54.2)

Total Appropriations Reported on SBR $ 720.5

Unobligated Budget Authority Brought

Forward from Prior Year 176.0

Spending Authority from Offsetting

Collections 102.4

Contract Authority 68.3

Total Budgetary Resources $ 1,067.2

Description

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

23

Balance Sheet

The Balance Sheet, which reflects the Department’s financial position as of

September 30, 2015, reports probable future economic benefits obtained or controlled by

the Department (Assets), claims against those assets (Liabilities), and the difference

between them (Net Position).

The $2.3 trillion in assets shown in Figure 10 represent amounts the Department owns

and manages. Investments, General Property, Plant, and Equipment, and Fund Balance with

Treasury (FBWT) represent 85 percent of the Department’s assets. General Property, Plant,

and Equipment is largely comprised of military equipment and buildings, structures, and

facilities used to support the Department’s mission requirements.

Total Assets increased $57.4 billion (2.6 percent) from FY 2014, largely due to a

$60.9 billion increase in Investments in U.S. Treasury securities. Investments increased

primarily due to normal growth in the Military Retirement Fund. As displayed in Figure 13,

the Department has realized growth in investments over the last several years. The growth

results from investment of contributions from the U.S. Treasury and the Uniformed

Services, net of benefits paid. Under the Department’s current strategy, invested balances

will continue to grow to cover unfunded portions of future benefits. Funds not needed to

cover current benefits were invested in U.S. Treasury Securities.

As seen in Figure 11, the Department’s total liabilities decreased $32 billion during

FY 2015, due to downward adjustments in the estimated actuarial liability associated with

military retiree health care benefits. This change is primarily attributable to changes in the

underlying benefit plan, actuarial assumptions, experience, and expectations used to

calculate the unfunded liability. The Department’s $2.4 trillion of liabilities reported in

FY 2015 are backed by the full faith and credit of the United States Government.

Figure 10. Summary of Total Assets

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

24

Figure 12 shows the $1.6 trillion in unfunded liabilities that will require future resources.

The U.S. Treasury is responsible for funding the actuarial liability that existed at the

inception of the military retirement and health care programs. This $1.3 trillion actuarial

liability accounts for approximately 82 percent of the total $1.6 trillion in liabilities not

covered by budgetary resources. The Department has resources available to cover

approximately $724.6 billion of the remaining liabilities, primarily invested in U.S. Treasury

securities. In addition, there are Military Pre-Medicare eligible retiree health benefits

actuarial liabilities of $235.3 million.

Figure 11. Summary of Total Liabilities

Figure 12. Unfunded Liabilities

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Statement of Net Cost

The Statement of Net Cost presents the net cost of all the Department’s programs,

including military retirement benefits. The statement reports total expenses incurred less

revenues earned from external sources to finance those expenses. Generally, the resulting

balance of net cost is equivalent to the outlays reported on the Statement of Budgetary

Resources (SBR), plus accrued liabilities, less the amount of assets purchased and

capitalized on the Balance Sheet. The differences between reported outlays of the budgetary

resources and reported net cost generally arise from when expenses are recognized.

The Department’s costs incurred relate primarily to operations, readiness, and support

activities, military personnel cost, and costs related to the Department’s procurement

programs. These costs were offset with investment earnings and contributions to support

retirement and health benefit requirements, as well as earnings from reimbursed activities.

This activity resulted in $560.6 billion in net cost of operations during the fiscal year.

As depicted in Figure 13, the $560.6 billion in net cost of operations represents a

$79.4 billion decrease (12 percent) from FY 2014 reported net cost. Approximately

$74.5 billion of the decrease is related to the cost for future military retirement and health

care benefits, largely driven by plan amendments, changes in actuarial assumptions, and

other actuarial gains and losses.

Figure 13. Summary of Net Cost of Operations

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

26

Statement of Changes in Net Position

The Statement of Changes in Net Position (SCNP) presents the total cumulative results

of operations since inception and unexpended appropriations at the end of the fiscal year.

The SCNP displays the components of net position separately to enable the user to better

understand the nature of changes to net position as a whole. The statement focuses on how

the net cost of operations as presented on the Statement of Net Cost is financed, as well as

displaying the other items financing the Department’s operations. The Department’s ending

net position increased $89.5 billion during FY 2015. The increase reflects primarily the effect

of the change in projected military retirement and health care benefits.

Financial Performance Summary

The Department’s financial performance is summarized in Figure 14. This table

represents the Department’s condensed financial position, results of operations, and

budgetary resources, and includes comparisons of financial balances from the current year

to the prior year.

Management also relies on information that describes the economic conditions of the

Department that cannot be expressed in the basic financial statements. Required

supplementary stewardship information includes the Department’s investments in

nonfederal physical property and investments in research and development.

Nonfederal Physical Property investments support the purchase, construction, or major

renovation of physical property owned by state and local governments. In addition,

Nonfederal Physical Property investments include federally-owned physical property

transferred to state and local governments. Examples include expenditures supporting the

design, build, and construction services/management for the missions of commercial

navigation, flood/storm damage reduction, hydropower, regulatory, environmental,

recreation, and water supply. Investments in transferred and funded assets for FY 2015

totaled over $1.3 billion.

The Department also invests in research and development to maintain its technological

advantage over potential adversaries, improve the health and welfare of military personal

and their families, and make operational improvements to increase the Department’s overall

efficiency and effectiveness. During FY 2015 the Department made investments in research

and development of over $61 billion, which included investments in basic research, applied

research, and development. Examples of research and development programs included

lightweight energy efficient materials, night vision, global weather patterns, experimental

and operational ships, planes, vehicles, and medical advances for the care and treatment of

wounded warriors and their families.

As noted, the lack of auditable financial data is a limiting factor in the ability of the

Department to explain all material variances presented in the comparative statements.

Nevertheless, the data underlying the amounts is used to manage the Department’s

operations successfully.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

27

Figure 14. Financial Performance Summary

Dollars in Billions FY 2015

Restated

FY 2014 Change % Change

ASSETS

Fund Balance with Treasury $ 467.4 $ 480.4 $ (13.0) -2.7%

Investments 848.0 787.1 60.9 7.7%

Accounts Receivable 7.7 8.0 (0.3) -3.8%

Other Assets 77.3 78.9 (1.6) -2.0%

Inventory and Related Property, Net 261.7 261.5 0.2 0.1%

General Property, Plant and Equipment, Net 630.0 618.8 11.2 1.8%

Total Assets $ 2,292.1 $ 2,234.7 $ 57.4 2.6%

LIABILITIES

Accounts Payable $ 20.3 19.9 $ 0.4 2.0%

Other Liabilities 44.3 46.2 (1.9) -4.1%

Military Retirement and Other Federal Employment Benefits

2,302.0 2,334.0 (32.0) -1.4%

Environmental and Disposal Liabilities 60.0 58.6 1.4 2.4%

Total Liabilities $ 2,426.6 $ 2,458.7 $ (32.1) -1.3%

Total Net Position (Assets Minus Liabilities) $ (134.5) $ (224.0) $ 89.5 40.0%

Total Financing Sources 677.0 646.5 30.5 4.7%

Less Net Cost of Operations (560.6) (640.0) 79.4 -12.4%

Net Change of Cumulative Results of Operations 116.4 6.5 109.9 1,690.8%

Total Budgetary Resources $ 1,067.2 $ 1,084.4 $ (17.2) -1.6%

An F-16 Fighting Falcon aircraft sits on the flightline before morning sorties on Tyndall Air

Force Base, Fla., Sept. 18, 2015. The aircraft is assigned to the Ohio Air National Guard's

180th Fighter Wing.

Ohio National Guard photo by Air Force Senior Master Sgt. Beth Holliker

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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FINANCIAL MANAGEMENT IMPROVEMENT INITIATIVES

Financial Improvement and Audit Readiness Initiative

The Financial Improvement and Audit Readiness (FIAR) initiative is the Department’s

strategy for achieving and validating audit readiness of all financial statements by

September 30, 2017. Audit readiness means the Department has strengthened internal

controls and improved financial practices, processes, and systems so there is reasonable

confidence the information can withstand an audit by an independent auditor.

Fiscal year (FY) 2015 was a pivotal year for the Department. Each Military Department

began an Independent Public Accountant (IPA) limited-scope audit of its General Fund

Schedule of Budgetary Activity (SBA) for its FY 2015 appropriations. Additionally, most of

the material other Defense organizations (ODO) went under SBA examination or completed

mock audits of their current year budgetary activities. Going under IPA audit or examination

is an essential part of the DoD FIAR strategy and is consistent with the feedback received

from Government Accountability Office (GAO), the DoD Office of the Inspector General

(DoD IG), and some members of Congress. Audits highlight dependencies between

organizations and remaining deficiencies so corrective actions can be implemented and full

audit readiness can be achieved. Going under audit also means an important culture change

is underway, requiring both military and civilian personnel across the Department to learn

and understand the business of being audited.

During FY 2015, about 90 percent of the total DoD General Fund appropriations were

under audit. The remaining General Fund appropriations not currently under audit are

undergoing examinations or audit readiness activities.

U.S Marines and sailors clear a fallen tree during a community service project at an elementary school in Saipan in the aftermath of Typhoon Soudelor in Garapan, Saipan, Aug. 14, 2015. The Marines are assigned to 31st Marine Expeditionary Unit, and the sailors are assigned to the USS Ashland.

Photo by Petty Officer 3rd Class David A. Cox

Soldiers help extinguish a small fire while battling the Rocky Fire near Clear Lake, Calif., Aug. 12, 2015. The soldiers are California National Guardsmen assigned to the 578th Brigade Engineer Battalion and the 1st Battalion, 18th Cavalry, 79th Infantry Brigade Combat Team.

California Army National Guard photo

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Over the next two years, the Department will continue to expand the scope of audits,

while sustaining a stronger, more disciplined environment, until full audit readiness is

achieved. Lessons learned from other federal agencies suggest that the first years of

auditing the full financial statements will not result in a positive opinion, but the Department

is committed to resolving all issues until a positive opinion can be achieved and sustained.

Figure 15 identifies the Components that were under audit in FY 2015 and their

percentage of the total DoD General Funds (based on FY 2014 total).

Additional information on the FIAR initiative, as well as the Department’s FIAR Plan

Status Reports, is available on the Under Secretary of Defense (Comptroller) website.

Figure 15. General Funds Under Audit in FY 2015

Based on FY 2014 Total Budgetary Resources.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Financial Management Certification Program

The DoD Financial Management (FM) Certification Program,

sponsored by the Office of the Under Secretary of Defense

(Comptroller), hit full stride in FY 2014. As of September 2015,

over 8,000 members achieved their required certification. The

FM personnel in the Reserve Components transitioned in FY 2015,

and we expect the wave of certifications awarded will increase

steadily throughout the upcoming fiscal year.

The Certification Program is course-based rather than

test-based, with course hour requirements aligned to FM and

leadership competencies and other specific courses, namely,

audit readiness, ethics, and fiscal law. There are three levels of FM Certification, and each

level includes FM experience requirements. The FM workforce members must achieve

certification within two years of assignment to an FM position. After meeting initial

certification requirements, FM personnel must meet continuing education and training

requirements every two years.

When we recognized that the inventory of FM

courses would not be adequate to support a

course-based certification program, the

Comptroller team began to develop FM web-based

training courses in 2012. Currently, 68 of these

courses are available to the workforce, resulting in

improved, cost-free access to training in key,

substantive subject areas.

To date, over 181,000 FM web-based course completions have been recorded and over

29,000 of these course completions are in the Financial Improvement and Audit

Readiness (FIAR) area. This metric’s results indicate that the program is achieving one of its

goals, which is to improve employee knowledge and skills in audit readiness.

As the FM Certification Program matures, the culture of continual professional

development and training for all FM workforce members will become ingrained, proficiency

in technical and leadership subject areas will increase, and support to the warfighters will

keep pace with their needs.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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More Disciplined Use of Resources

Continuing the reform agenda advanced in previous budgets, the Department reviewed

all budgetary areas for potential savings in its “More Disciplined Use of Resources”

campaign. Strategies to realize savings included restructuring the civilian workforce to meet

key needs with fewer personnel; better leveraging of the reserve components; restructuring

military treatment facilities; controlling health care costs by taking advantage of lower

prices for private care; consolidating unintentionally duplicative efforts; reducing

management headquarters staffs; and restructuring or terminating weapons programs and

military construction projects to focus on the most critical capabilities.

As a result of these efforts, the Department proposed approximately $93 billion in cost

reductions from fiscal year (FY) 2015 through FY 2019 in the Department’s Future Year’s

Defense Program (FYDP) supporting the FY 2015 President’s Budget request compared to

the FYDP supporting the FY 2014 President’s Budget. The savings include:

Streamlining Business Practices and Support Services. The Department reduced

$38 billion from the FYDP by streamlining business practices and support services

such as installation and administrative functions, contracting, staffing, and by

implementing initiatives to reduce costs in the health care sector.

Contracting Efficiencies. The Department eliminated $30 billion from the FYDP by

reducing contract support levels commensurate with reductions in force structure,

and by implementing better buying power initiatives in procurement activities.

Terminating or Restructuring Weapons Programs. The Department reduced $9 billion

from the FYDP by identifying and terminating programs in which the most important

capabilities could be met by other means, and restructuring or protracting of

timelines that will still permit the Department to meet the most important strategic

needs.

Manpower or Force Restructuring. The Department eliminated $8 billion across the

FYDP by reducing the civilian workforce commensurate with reduced force structure

levels and reduced workload at depot maintenance activities.

20 Percent Headquarters Reductions. The Department reduced the FYDP by $5 billion

by implementing the Department’s institutional reform efforts to prioritize and

consolidate duplicative efforts and thereby reduce management headquarters staffs.

Restructuring and Delaying Military Construction Projects. The Department

eliminated $4 billion across the FYDP by funding only the most critical facility

requirements and ensuring construction projects are sized to support requirements

needed for the reduced force structure.

The Department remains committed to performing its mission while operating efficiently,

reducing costs, and effectively managing taxpayer dollars. As the military force structure

draws down, the Department will continue to examine other opportunities to streamline

installation support and management overhead to match capacity to the new force

structure.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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INTERNAL CONTROLS OVERVIEW

MANAGERS’ INTERNAL CONTROL PROGRAM

The Office of the Under Secretary of Defense (Comptroller) leads the Department’s

Federal Managers’ Financial Integrity Act (FMFIA) program, known as the Managers’ Internal

Control Program (MICP). The Department is committed to ensuring effective internal

management controls for all mission-essential processes. The MICP holds both operational

and financial DoD managers accountable to ensure effective internal management controls

in their areas of responsibility. All Components are required to conduct a robust

programmatic approach to establish and assess internal management controls for all

financial and non-financial mission-essential operations. Components that produce

standalone financial statements are also required to provide financial reporting assurance.

The Department advocates a “tone at the top” approach, with emphasis on the

importance of the internal control program, which permeates the entire DoD culture. The

purpose of the MICP is to identify, prioritize, and mitigate high operational and financial risk

before it impedes the mission. Per DoD Instruction 5010.40, each Component uses its

leadership’s mission requirements as a baseline for executing assessments of key functional

operational and financial areas. Instead of relying on external auditors to identify material

control weaknesses, Components rely upon appointed assessable unit managers for each

key operational and financial area to identify and self-report internal control deficiencies for

review and comment by leadership. This process complements the Government

Accountability Office’s (GAO) Standards for Internal Control in the Federal Government

(“Green Book”) through the Department’s reliance upon the Risk Enterprise Framework

approach to ensure we prioritize systemic operational and financial risk for corrective action.

Types of Material Weaknesses

The Department’s management uses the following criteria to classify conditions as

material weaknesses:

Merits the attention of the Executive Office of the President and the relevant

Congressional oversight committees;

Hinders management’s ability to prevent or detect a material misstatement of the

financial statements;

Impairs fulfillment of essential operations or mission;

Identified as a “high risk” by GAO or the DoD Inspector General (DoD IG);

High impact of occurrence in terms of loss of dollars and loss of life;

Significantly weakens established safeguards against waste, loss, unauthorized use

or appropriation of funds, property, other assets, or conflicts of interest;

Constitutes substantial noncompliance with laws and regulations;

Nonconformance with government-wide, financial management system

requirements; and

Identified by independent public accountants as material weaknesses.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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Based on the Department’s assessment of internal controls, the Deputy Secretary of

Defense has signed the following Statement of Assurance.

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

34

FY 2015 Improvements in Internal Controls

Strong internal controls are essential to achieving and sustaining a cost-effective audit

regimen. Despite the many challenges, the Department is steadily improving internal

controls. Some challenges and accomplishments are highlighted below.

1. Intragovernmental Transactions: Intragovernmental transactions result when

business is conducted between two federal entities. Both entities must accurately

record the event so that the buying and selling documentation can be matched.

Imbalances occur when the federal entities are unable to account for and reconcile

differences. These differences often lack proper documentation. To address this

issue, the Department is aligning how it records intragovernmental transactions by

mandating the use of the Department of the Treasury’s Invoice Processing

Platform (IPP). The Department developed standard intragovernmental data

exchange maps to be used by DoD financial systems, creating a common

intragovernmental financial transaction set. Additionally, the Department worked

with the Department of the Treasury and other federal agencies to create a

government-wide data standard for intragovernmental transactions.

2. Charge Card Programs: Stronger controls help the Department identify, correct, and

minimize fraud, waste, and abuse of charge cards. Additionally, limiting the number

of cards in use reduces the number of cards that can be stolen or compromised. The

total number of purchase cards issued in the Department of Defense was reduced by

20,505 this year. Much of this reduction was a direct result of the Army’s

implementation of the Purchase Card Online System (PCOLS), which assisted in the

identification of underutilized cards to remove from operational use. The Department

also aggressively provided oversight of the Purchase Card program, and as a result

recorded 3,325 personnel actions for potential misuse or abuse of purchase cards.

3. Service Provider Integration: A service provider is a DoD Component that performs a

business function or process on behalf of another Component. In order for service

provider customers to become audit ready, a service provider’s audit readiness

activities must be fully integrated with its customers’ audit readiness activities.

Statement on Standards for Attestation Engagements (SSAE) No. 16 examinations

are being used to validate the effectiveness of service provider internal controls.

Results of the SSAE No. 16 examinations can then be used by Component customer

financial statement auditors, improving Department-wide efficiency, and saving time

and money. Because successful service providers’ SSAE No. 16 examinations are

essential to their Component customers’ success, the Office of the Under Secretary

of Defense (Comptroller) is expanding service provider integration. DFAS has begun

an SSAE No. 16 for Fund Balance with Treasury (FBWT) and will continue

sustainment of clean opinions on its service provider SSAE No. 16 examinations to

include Civilian Pay, Contract Pay, and Disbursements. In addition, the Defense

Logistics Agency (DLA) received a clean opinion on its Defense Agency Initiative

(DAI) SSAE No. 16 examination.

4. Standard Line of Accounting (SLOA): The Department has lacked a common financial

business language that standardizes data elements, business rules, and the

transaction posting logic used in DoD financial systems. To facilitate reconciliations

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

35

between systems, the Joint Interoperability Test Command (JITC) began

independent verifications of the Department’s ERPs and key financial systems to

determine system compliance with Standard Financial Information

Structure/Standard Line of Accounting (SFIS/SLOA) data element configuration,

United States Standard General Ledger (USSGL) posting logic, tie-points, and trading

partner interface interoperability standards. Aligned with Federal Information System

Controls Audit Manual (FISCAM) general application and interface controls, the

results of JITC verification provides further insight into the audit readiness status of

DoD systems and findings to remediate as part of audit preparations.

5. Fund Balance with Treasury and Cash Accountability: Unsupported journal vouchers

and unresolved FBWT differences between the Department and the Department of

the Treasury (Treasury) are material and jeopardize achieving audit ready financial

statements. The Department has endorsed a single, auditable enterprise-wide FBWT

solution that aligns with Treasury’s modernization initiatives. The standardized

process was tested with select DoD accounts in the last half of FY 2015. Results of

those tests are being evaluated, and the process is being refined.

A Marine fires a Javelin at a simulated enemy tank during Operation Lava Viper at Pohakuloa Training Area, Hawaii, May 29, 2015.

The Marines are assigned to Weapons Company, 1st Battalion, 3rd Marine Regiment.

Photo by Cpl. Ricky S. Gomez

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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BUSINESS AND FINANCIAL MANAGEMENT SYSTEMS

To successfully achieve and sustain improvements in our internal controls, financial

management, and auditable financial reports, the Department is improving its business

systems. Modernization and improved interoperability of DoD business systems is critical to

efficiently respond to Warfighter needs and sustain public confidence in our stewardship of

taxpayer funds.

Following passage of section 901 of the National Defense Authorization Act2 for FY 2012,

the Department significantly changed the requirements for investment reviews and the

certification of defense business systems, which now must occur before funds (appropriated

or non-appropriated) are obligated. The Department’s investment review process ensures

that decisions on investments in business systems align with the Defense-wide integrated

business strategy (Figure 16). These decisions also include retirement plans for legacy and

non-target financial systems and ensure that systems eliminate redundant activity and

maximize operating efficiency through streamlining business processes and the availability

of timely, accurate, and useful business information.

Figure 16. The Department’s Integrated Business Framework

The Department’s Financial Management (FM) Functional Strategy provides the

Department’s vision, initiatives, goals, target environment, and expected outcomes over the

next five years. The strategy is designed to ensure the Department achieves and sustains

2 Section 901 of the National Defense Authorization Act for FY 2012, codified at 10 U.S.C. 2222, “Defense business systems: architecture, accountability, and modernization”

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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auditability and financial management improvement objectives.

The key components of the FM Functional Strategy include establishing data and data

exchange standards, standard business processes, and system controls and enhancements

that support improved processes, and leveraging technology across the Department’s

end-to-end processes. The primary objectives of the FM Functional Strategy are to achieve a

fully integrated environment linked by standard processes, standard data, with the fewest

number of systems and interfaces. Ultimately, this strategy will lead to stronger internal

controls impacting financial reporting and auditability, and improve end-to-end funds

traceability and linkage between budget and expenditures. Current enterprise-level

initiatives include the Standard Financial Information Structure, the Department’s first-ever

Standard Line of Accounting to improve funds traceability and financial reporting. The

Department also participates in Federal-wide process improvement initiatives, such as

compliance with the President’s transparency and open government initiatives, the

Department of the Treasury’s Government-wide accounting and Direct-to-Treasury

disbursing initiatives, as well as promoting the use of business analytics and maximizing

existing Enterprise Resource Planning (ERP) systems.

The FM functional strategy also provides the plans to retire and replace legacy financial

systems to simplify the FM systems environment and infrastructure. Under the legacy

systems reduction plan, financial management core and feeder systems should be reduced

from 327 systems at the beginning of FY 2014 to 120 systems by the end of FY 2019.

Figure 17. DoD Financial Management Improvement Initiatives

FM Standards

& Compliance

Standard Processes

& Systems

Leverage

Technology

Business

Outcomes*

Direct Treasury

Disbursing

Cost

Management

Funds

Distribution

Daily Cash

Reporting

Standard Planning,

Programming,

Budget Execution

Delinquent Debt

Management

Treasury’s Central

Acct. Reporting

System Roll-Out

Sub-Allotment

Execution

Intra/Inter-Govt.

Trans-Invoice

Payment Platform

(IGT / IPP)

Business Results

Maximize and

Leverage ERPs

Shared Services

Standard

Transaction

Broker &

Business Analytics

• Better financial information for

business decisions

• Auditable financial

statements

• Transparency of

financial data

Interoperability among business systems

End-to-end funds traceability and linkage

between budget and expenditures

Stronger Internal Controls impacting

financial reporting and auditability

Compliance with Govt-wide Accounting (GWA) Initiatives

Enterprise Planning, Program Budget &

Exec. (PPBE)

OSD FIAR

Plan

Guidance

Federal Internal

Control Stds.

(SSAE-16)

GAO- Stds for

Internal Control

(FISCAM)

Treasury’s Std.

general ledger

DoD Standard

Fin. Information

Structure

* Aligns with the DoD Strategic Management Plan (SMP)

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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The ERP systems are integral to implementing the strategic FM business process

improvements, achieving the planned target environment and reductions in the number of

legacy systems, and better enabling a sustainable audit environment. The ERPs provide a

broad range of functionality to support DoD business operations in financial management,

supply chain management, logistics, and human resource management. Some ERPs are

fully fielded while others are in a state of development and deployment.

Army ERPs

General Fund Enterprise Business System (GFEBS) is the General Fund accounting, asset

management, and financial system used to standardize, streamline, and share critical data

across the active Army, Army National Guard, and Army Reserve. The GFEBS is a web-

based ERP solution that uses commercial off-the-shelf (COTS) business enterprise software

to compile and share accurate, up-to-date financial and accounting data.

Logistics Modernization Program (LMP) is one of the world’s largest, fully-integrated

supply chain, maintenance, repair and overhaul, planning, execution, and financial

management systems. The LMP mission is to sustain, monitor, measure, and improve the

modernized, national-level logistics support solution. By modernizing both the systems and

the processes associated with managing the Army’s supply chain at the national and

installation levels, LMP will permit planning, forecasting, and rapid order fulfillment to supply

lines, improved distribution, a reduced theater footprint, and a warfighter who is equipped

and ready to respond to present and future threats.

Global Combat Support System – Army (GCSS-A) provides enterprise-wide visibility into

various logistics areas and is a key enabler for the Army in achieving auditability. The

GCSS-A provides the tactical Warfighter with supply, maintenance, property accountability,

integrated materiel management center, management functionality, and support to tactical

financial processes.

Integrated Personnel Pay System – Army (IPPS-A) is a hybrid solution using ERP

software to deliver an integrated personnel and pay capability. The IPPS-A will provide the

Army with an integrated, multi-Component personnel and pay system which streamlines

Army Human Resources processes, enhances the efficiency and accuracy of Army personnel

and pay procedures, and supports soldiers and their families. The IPPS-A will improve

internal controls to prevent erroneous military payments and loss of funds.

Navy ERPs

Navy Enterprise Resource Planning (Navy ERP) is an integrated business system that

provides streamlined financial, acquisition, and supply chain management to the Navy’s

major systems commands.

Global Combat Support System – Marine Corps (GCSS-MC) is the core web-enabled,

centrally-managed ERP for the Marine Corps. The GCSS-MC is focused on the acquisition

and implementation of the initial set of logistics capabilities to deliver improved supply and

maintenance management services. As the technology centerpiece of the Marine Corps’

overall logistics modernization effort, GCSS-MC will provide advanced expeditionary logistics

capabilities to ensure future combat efficiency.

U.S. Department of Defense Agency Financial Report for FY 2015

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Air Force ERPs

The Defense Enterprise Accounting and Management System (DEAMS) is an automated

accounting and financial management execution system for the Air Force and

U.S. Transportation Command. DEAMS creates an Air Force enterprise financial data view by

providing an integrated accounting and finance solution to manage appropriated and

working capital funds.

The Air Force Integrated Personnel and Pay System (AF-IPPS) is a comprehensive,

self-service, web-based solution currently in development that integrates personnel and pay

processes into one system and maintains an official member record throughout the airman’s

career. A Federal Financial Management Improvement Act (FFMIA)-compliant system,

AF-IPPS functionality will support audit readiness general and application controls. Full

deployment is not projected until the fourth quarter of FY 2018.

Other Defense Organization ERPs

Defense Agency Initiative (DAI) is a system dedicated to address financial management

improvements through standard end-to-end business processes delivered by commercial

off-the-shelf (COTS) software. The DAI provides accounting, procure to payment, and time

and attendance capability today, and will provide grants financial management and budget

formulation capability in the future. By the end of FY 2017, 22 of 26 Defense Agencies will

have deployed DAI.

Enterprise Business System (EBS) uses a commercial off-the-shelf product to manage

Defense Logistics Agency’s (DLA) supply chain management business. The EBS also includes

Electronic Procurement, Real Property, Inventory Materiel Management and Stock

Positioning, and Energy Convergence modules, providing DLA leadership with the tools to

respond to new challenges and trends.

Soldiers conduct a raid at an urban terrain training site on Fort Pickett, Va., Aug. 20, 2015.

The Virginia National Guard ran the 14-day long exercise aimed at teaching infantry skills to

non-combat military occupational specialties.

Photo by Sgt. Sean Brady

U.S. Department of Defense Agency Financial Report for FY 2015

Management’s Discussion and Analysis

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IMPROPER PAYMENT REPORTING

Department of Defense Financial Management Regulation (DoD FMR) 7000-14-R,

Volume 4, Chapter 14, defines improper payments as “any payment that should not have

been made or was made in an incorrect amount under statutory, contractual,

administrative, or other legally applicable requirements.”

In accordance with the Improper Payments Information Act of 2002 (IPIA)

(P.L. 107-300); Improper Payments Elimination and Recovery Act of 2010 (IPERA)

(P.L. 111-204); Improper Payment Elimination and Recovery Improvement Act of

2012 (IPERIA) (P.L.112-248); Executive Order 13520, Reducing Improper Payments, issued

November 20, 2009; and Appendix C of Office of Management and Budget (OMB)

Circular No. A-123, Defense components are required to report the status of improper

payments and recovery of these improper payments to the President and Congress in the

following categories:

• Commercial Pay

• Civilian Pay

• Military Pay

• Travel Pay

• Military Health Benefits

• Military Retirements

Each Department of Defense disbursing activity is committed to identifying the root

causes of improper payments, establishing an appropriate sampling methodology,

developing and implementing corrective action plans, and monitoring to ensure future

improper payments are reduced and/or eliminated. One recent success:

Defense Finance and Accounting Service revised the statistical sampling methodology

for Commercial Pay improper payments. The revised sampling methodology is more

complex and produces statistically valid improper payment estimates. The population

is separated into quarters and samples are selected from each quarter for review.

The sampling methodology is stratified by dollar amounts consistent with both

Government Accountability Office and DoD IG recommendations.

As the Department moves towards the Congressional 2017 mandate to have fully

auditable financial statements, the reduction and elimination of improper payments will

ensure the Department achieves Congress’ established goal.